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Hedge fund redemptions to hit Indian markets

Howard Scott writes (post on Seeking Alpha) that there may be a liquidity situation with hedge fund redemptions that could create a temporary downside:

“If investors want to withdraw money from hedge funds, a 45-day notice period is required, in which the application can be submitted. So for the July quarter, July 1 to August 15 is the application period to withdraw serious money from a hedge fund. Post-August 15 will probably see people queuing up for redemptions in hedge funds. This may lead to a cascading liquidity withdrawal syndrome across emerging markets. This has not happened yet, but if it does, stock prices can be under the selling pressure across markets, where funds have been invested,” said Seshadri Bharathan, director, stock broking, Dawnay Day AV Securities.

What this means is that if US stocks tumble, hedge fund investors will pull out their money. Hedge funds,which invest in multiple countries, may choose to sell out of India – where the markets are doing well – rather than liquidate a down investment in other countries. Which means there will be selling pressure. Dates given are interesting because if investors ask for redemptions by August 15, the fund needs to give them their money in 45 days. So if they ask for money today, the fund has to provide them the money by latest October 1.

While this can sound bearish you should not rush to sell. Why not? Simply because it’s a prediction based on an assumption. That a) investors in hedge funds will withdraw and b) that these hedge funds will sell enough to ruin the market. Let the assumptions pan out. Let markets show a dramatic slowdown. Then we will see.

One indicator seems to be a dip in volume. Today (13th August) saw less than 9000 cr. turnover in stocks and about 30,000 cr. in derivatives (futures/options). These are the lowest figures in the last 45 days. Yet, the market was UP 1%!

If volumes continue to be low and the market stays up, it is an artificial high. Markets are propped up by purchases and transactions – if you have lower volume and high prices it means both supply and demand have dropped. Eventually the equation will go to lower prices where demand increases (the market always moves to where demand will increase).

But volatility is extremely high, as evinced from option prices. So if there is latent demand, it should come in this week. If not, these are signs of a trigger that is due to come. We will find out the reason later.

  • Guruprasad says:

    This is just a beginning. This selling and meltdown would continue for days. After this people would become normal and ofcourse another bombshell would come. Let us come to basics. If a person is a long term investor, he should definitely try to pick stocks in small quantities. Omnitech (I’ve position) seems to have great opportunity since it’s not vulnerable to rupee. I read a story that around 65% of its revenues are coming from India. There are excellent stories viz., Omaxe, Easun, NTPC, and others (For your info I don’t hold positions in any of the scrips). Folks now shouldn’t look for index, they should rather look for stock specific opportunities. But I don’t know whether it’s possible for us (including me) to look stock specific rather than index. It’s easy to preach than practice .Now Subprime problem is said to be spreading into commercial paper. I think negative news would continue to pour into the markets for a month. Is this similar to currency crisis that witnessed in Asian markets? Tough call. Now I believe analysts who said Subprime won’t impact India, would rather stay in caves than in their dinning rooms.

  • Deepak Shenoy says:

    >The subprime problem won’t affect India per se, but it will affect the markets which are more affected by sentiment and money flow than fundamentals.

    Getting stock specific is a great idea; I woudl also do some bottom fishing if there is a chance.

    But the bottom to me is at least 30% lower than today, around 3100 levels on the Nifty. That takes us back to historically low P/E of 14 on the Nifty. The fall can happen in a few days. As you said, this is just the beginning. However the real effect of subprime is not yet evident in the US markets. That will happen in the course of the next year, and will continue to drive us downwards.

    Either ways, there seems to be a hedge fund exit looking at both rupee falling (money going out) and markets tanking. Either that or there is short covering on the rupee and bad sentiment on the market.

  • Guruprasad says:

    >3100 would be attractive level(I think you’d have come up with technicals to give this target).There are some serious questions that has to be asked.Level is attractive, but would there be availability of cash with mutual funds, institutions and FIIs to drive the market. Very tough to answer.Bounce back would be real than phony quick comeback which we witnessed several times.It would be great learning for me to know how you arrived at 3100 levels.

  • Deepak Shenoy says:

    >There weren’t any technicals this time 🙂 I simply took current EPS of the nifty (P/E given as 18.9 at current value of about 4170) which is 221. Multiply by about 14 (last year’s lowest P/E – on June 14, 2006) gives you 3094. The target level to watch then is 3100, the idea being that in hindsight the next lower P/E will be the level for massive support.

    Things are looking much worse today, with the dow going 2% down again. The dollar is up to 41.36, a 1.1 Rs. move in a few days…which is a huge move. We’re in for some serious damage here.

    Mutual funds have a lot of cash but they might not be willing to invest.The driving force will come again from FIIs adn NRIs who’ll buy the oversold market – and typically from HNIs in India.

  • Guruprasad says:

    >I think your target of 3100 seems to be achievable. May be 100 or 200 plus. Situation is bleak and I heard the rumour that a Hedge fund sold out at Hangseng, which cost them 1200 points today.Still this is beginning. New investors would definitely hesitate to invest in this markets. Its going to be HNIs with huge cash, confidence and market knowledge would benefit much from this fall.